A Dark Monday in the Markets

Written by: Ryan Bouchey

Following the Monday we just experienced, it’s important to keep the current market environment in perspective. With the constant cycle of bad stock market news we need to take a closer look at what is actually causing the selloff.

 
There are many different levels of a market selloff and thus far this appears to be a short-term selloff rooted in investor’s psychology. China has a lot of investors worried. We’ve known for quite some time that China’s economy has been slowing down and the devaluation of their currency appears to be the final straw prompting a massive selloff. The extent that this has hit the U.S. and global markets however is quite surprising. U.S. goods which are purchased by China make up less than 1% of total U.S. GDP, and in Europe its less than 2% of its total GDP. Given the economics of the current situation, it can certainly be argued that the selloff has more to do with emotion than economics.

 
Speaking of economics, the U.S. economy has shown strength in a number of areas. Growth has been slow and steady and continues to see improvements. Areas of strength been shown in retail, vehicles, housing starts and existing home sales. We’ve had a number of solid job growth figures. For us to see a longer lasting type of selloff it would have to be rooted in economics, not emotion. Given the continued strength as well as the fact that U.S. household and corporate leverage has been kept in check, banks are well capitalized, housing prices aren’t too high and deflation doesn’t appear to be a major concern, we do not see many indications of a drawn out selloff.

The final indicator of a long-term, prolonged selloff is rooted in fundamentals. Right now there are many fundamental indicators showing that equities are still fairly valued and have room to grow. Valuations are below the 25-year historical average for forward P/E ratio. Dividend yields are at 2.4% compared to the 25-year average of 2.1%. The Dow is currently off 13% from its May highs and the S&P 500 is 12% off of its May high. The stock market the past 35 years has averaged a 14.2% intra-year DECLINE. We are still not even at this mark and the type of drop we are now experiencing is not uncommon. In 27 of those 35 years the stock market finished the year up.

 
Because of these factors, we still feel this is a short-term selloff. Things could change due to unforeseen circumstances, but given the current economic and fundamental data at our disposal and through all of our research, we feel that this will be short lived and an opportunity for us to put cash to work.